Forensic Economics Explained

A forensic economist is an economist retained in litigation to measure economic damages, the past and future financial losses caused by an injury, a death or a lost job. The National Association of Forensic Economics (NAFE) defines the wider field as "the scientific discipline that applies economic theories and methods to matters within a legal framework," which also takes in commercial damages, the statistical analysis of discrimination, market power in antitrust disputes, fraud detection and business, property and asset valuation (National Association of Forensic Economics, n.d.). Kincaid Wolstein Vocational and Rehabilitation Services (KWVRS) provides forensic economic analysis with its affiliated firm, Kincaid Wolstein Economics, for plaintiff and defense counsel.

Forensic economics is distinct from vocational rehabilitation and life care planning, though the disciplines often work together; the economic damages expert guide sets out which of the three a case needs. The vocational expert identifies what jobs the injured person can perform and what wages those jobs pay. The life care planner identifies what future medical care will cost. The forensic economist takes those inputs, applies economic methodology, and states the total loss, with the past years added as they occurred and the future years discounted to present value. In personal injury and medical malpractice cases the economist measures the injured person's own loss, and in wrongful termination cases the pay and benefits lost with the job. In wrongful death cases, the forensic economist calculates the earnings the decedent would have contributed to surviving family members over the course of a projected working life.

A forensic economist is not a general-purpose economist: the work calls for knowledge of wage and benefit data, actuarial and worklife tables, discount rate methods and, in wrongful death cases, personal consumption deductions. Professional bodies in the field include NAFE, which publishes the peer-reviewed Journal of Forensic Economics (National Association of Forensic Economics, n.d.), and the American Academy of Economic and Financial Experts (AAEFE), whose members analyze economic damages in litigation and whose official publication is the Journal of Legal Economics (American Academy of Economic and Financial Experts, n.d.). NAFE's ethics statement, which its members pledge to follow when they give an expert opinion, accepts that the plaintiff and the defense may give an economist different assignments. For any one assignment, though, it holds that "the basic assumptions, sources, and methods should not change regardless of the party who engages the expert," and it asks for enough detail that another economist can replicate every calculation (National Association of Forensic Economics, 2020).

Lost earnings are measured as the gap between what the person would have earned without the injury and what the person has earned since or can still earn, in two parts: the past loss, from the injury to the trial or settlement, and the future loss after it. The past loss is the more direct of the two: it reflects the wages not earned during a period of disability, less any income actually earned in that period.

The future loss, or more precisely the loss of earning capacity, is a projection. The economist projects what the person would have earned absent the injury (the "but for" scenario) and what the person can earn in the person's present condition (the "with injury" scenario), and the difference is the economic loss; where the ability to work is disputed, the second path comes from the vocational expert. Each projection draws on published data: wage growth from a series such as the Bureau of Labor Statistics' Employment Cost Index, which measures the change in employers' hourly labor costs over time (U.S. Bureau of Labor Statistics, n.d.), and the years of work from worklife expectancy tables (Skoog et al., 2011).

Earning capacity is what a person could earn given the person's skills, education and the labor market, so a person out of work when injured still has a capacity to measure even though the earnings were zero. The distinction matters most for young claimants, homemakers, students and self-employed claimants, whose tax returns may not reflect their economic contribution.

A future loss is reduced to present value by discounting each future year's amount at the rate of return the award is assumed to earn, so that a sum paid now, once invested, would meet the loss as it falls due; the years already past are added up as they occurred and are not discounted. In Jones & Laughlin Steel Corp. v. Pfeifer (1983) the Supreme Court explained why: an award has traditionally been paid as a lump sum at the conclusion of the litigation, and once invested it earns additional money, although it could in theory take the form of periodic payments.

The discount rate is that assumed return. The Court said it "should be based on the rate of interest that would be earned on 'the best and safest investments,'" without the premium the market pays investors who accept some risk of default; the present value method sets out how economists choose the rate and net it against expected growth.

The Court would not adopt a single method of accounting for inflation for all federal trials. For a suit like the one before it, an injured longshore worker's claim rooted in federal maritime law, it said a trial court that builds the expected wage growth other than price inflation into the earnings, and sets only expected price inflation against the market interest rate, should not be "reversed if it adopts a rate between one and three percent and explains its choice."

Total offset methods presume that the discount rate is offset by elements of the earnings projection, and they differ in which elements do the offsetting. In Beaulieu v. Elliott (1967), which Pfeifer says is regarded as the seminal total offset case, the Alaska Supreme Court ruled that no discount was to be applied to an injured worker's lost wages, holding the market interest rate fully offset by price inflation and real wage inflation. In Kaczkowski v. Bolubasz (1980), as Pfeifer describes it, the Pennsylvania Supreme Court let the plaintiff introduce evidence of the individual and societal sources of future wage growth other than predictions of price inflation, rejected discounting at a real interest rate, and deemed the market interest rate to be offset by future price inflation.

Alaska's legislature has since set its own rule by statute: in an award of damages for personal injury, the fact finder reduces the injured party's future economic damages to present value at long-term future interest rates in "the best and safest investments," unless the parties agree that the award may be computed under the Beaulieu rule (Alaska State Legislature, 2025). Because a forum's rule can change by statute or by later decision, counsel confirms the rule that governs the case before the report is final.

The replacement cost method values household services as the hours of household work the person can no longer do, priced at what it would cost to hire others to do them; the opportunity cost method, which prices the hours at the person's own forgone wage, can give a different figure. Household services are the unpaid work of keeping a home and caring for a family, such as meal preparation, cleaning, laundry, childcare, lawn care and routine home repair, and they have an economic value even though no paycheck is issued for them.

A replacement cost valuation needs two figures. The first is the time spent on household tasks: the economist computes a base number of hours from time-use data, such as the Bureau of Labor Statistics' American Time Use Survey, which measures how much time people spend on activities such as paid work, childcare, volunteering and socializing (U.S. Bureau of Labor Statistics, n.d.), and adjusts it for the household's circumstances, such as the presence and ages of children. The second is the wage of a worker hired to do each task, from the bureau's Occupational Employment and Wage Statistics, its employment and wage estimates by occupation (U.S. Bureau of Labor Statistics, n.d.). The hours multiplied by the matching wages give the yearly value, and the household services methodology sets out the framework.

In wrongful death cases, household services analysis quantifies the value of the services the decedent would have performed for the surviving family members over a projected lifetime.

The personal consumption deduction, made in wrongful death cases, removes from the decedent's projected earnings the part the decedent would have spent on personal consumption rather than on the surviving dependents, which leaves the net economic contribution to the survivors; the other adjustments that recur are fringe benefits, income taxes and worklife expectancy.

The deduction's size is estimated from consumer spending data, such as the Bureau of Labor Statistics' Consumer Expenditure Surveys, which provide data on the expenditures, income and demographic characteristics of consumers, and it depends primarily on family size and income level (U.S. Bureau of Labor Statistics, n.d.; Patton & Nelson, 1991). Because the share is an estimate, the report names the study or table it uses and the spending categories it counts, so the opposing economist can test the choice.

Fringe benefits, such as health insurance, retirement contributions and the payroll taxes the employer pays, are added where the claim includes them, from the employer's records or the bureau's Employer Costs for Employee Compensation series (U.S. Bureau of Labor Statistics, n.d.); the damages calculation article gives the series' current figures. Whether the loss is stated before or after income taxes is for the governing law; in Pfeifer, the Court described the ideal earnings stream in the federal case before it as after-tax wages and benefits, since the award itself is tax-free. Worklife expectancy, the years of the remaining lifetime that would have been spent working, bounds how long the earnings stream runs.